Microfinance

A Reader

David Hulme, Thankom Arun

• Publisher: Taylor & Francis
• Year: 2009
• Print ISBN: 9780415375320
• eBook ISBN: 9781134187072
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

Microfinance has become an important component of development, poverty reduction and economic regeneration strategy around the world. By the early twenty first century tens of millions of people in more than 100 countries were accessing services from formal and semi-formal microfinance institutions (MFIs). Much of the initial attention on microcredit came through work on Bangladesh's much-lauded Grameen Bank but, there are now many different 'models' for microfinance and many countries have substantial microfinance sectors.

This timely book, written by one of the major players in the UK in development economics explores, amongst others, topics such as:

• microfinance and poverty reduction
• microfinance, gender and social development
• microinsurance
• regulating and supervising microfinance institutions.

Topical and insightful, this important text examines what has become a vast global industry employing hundreds of thousands of people and attracting the attention of large numbers of governments, banks, aid agencies, non-governmental organizations and consultancy firms.

1
INTRODUCTION

Thankom Arun and David Hulme

Since the 1980s microfinance has become an important component of development, poverty reduction and economic regeneration strategies around the world. By the early twenty-first century tens of millions of people in more than 100 countries were accessing services from formal and semi formal microfinance institutions (MFIs). It has become a vast global industry involving large numbers of governments, banks, aid agencies, non-governmental organizations (NGOs), cooperatives and consultancy firms and directly employing hundreds of thousands of branch-level staff.

Much of the initial excitement about microfinance centered on Bangladesh’s much lauded Grameen Bank, which talked of the transformation of economic and social structures through microenterprise loans and group formation. It propounded a ‘bottom-up’ approach that made the social mobilization of marginalized communities, and particularly women, a main focus. How times have changed. There are now many different ‘models’ for microfinance, many countries have substantial microfinance sectors and the main activity is on providing microfinancial services rather than the grander goal of social transformation. Microfinance today is about drawing the benefits of contemporary capitalism down to those with low incomes rather than promoting alternatives to capitalism. It is part of the post-Washington Consensus (Stiglitz, 1998) and not an alternative to the orthodoxy.

Access to financial services can be seen as a public good that is essential to enable people to participate in the benefits of a modern, market-based economy – analogous to access to safe water, basic health services, and primary education (Peachey and Roe, 2004). Microfinance initiatives have emerged as an alternative to the well documented failures of government rural credit schemes to reach small farmers (Hulme and Mosley, 1996) and the formal banking sector to provide services to low-income households. They pay close attention to the incentives that drive efficient performance (Morduch, 1999) in the context of small transactions and large numbers of clients. Many MFIs use group-based lending approaches and thus reduce the administrative costs (or transfer them to clients) of gathering information, contract design and enforcement of credit transactions, including loan recovery. Over time the microfinance sector has become less the domain of NGOs and non-profits and more the domain of commercial organizations. There were 3,316 microcredit institutions reported reaching 133,030,913 clients at the end of 2006 (Daley-Harris, 2007). According to Daley-Harris, nearly 70 percent of the clients were among the poorest when they took their first loan, but some observers query this claim. In terms of the financial size of the organizations, in Bangladesh, the Grameen Bank and the Bangladesh Rural Advancement Committee (BRAC) have a cumulative disbursement of over US$4.7 billion and US$2.2 billion respectively (Hulme and Moore, 2008). However, the phenomenal growth of the sector has brought out the issues of poor management and inadequate corporate governance among MFIs (Lascelles, 2008).

A vast printed and electronic literature has grown around microfinance but it is dispersed across many professional and academic journals (in economics, develop ment studies, small enterprise development, banking, finance, sociology, social policy and management), books, agency reports and websites. This structured reader presents 12 articles, carefully selected from a review of more than 400 publications to provide a comprehensive overview of microfinance from an interdisciplinary perspective, and a conclusion. These readings cover the key debates in microfinance – such as poverty, gender, client-led products, regulation and impact assessment – along with case studies from a carefully selected range of countries. The early chapters examine the evolution of microfinance and review broad sets of issues. Later chapters focus on more narrowly defined issues and/or specific case studies, such as the Grameen Bank.

The first article, by Thankom Arun, David Hulme, Imran Matin and Stuart Rutherford (Chapter 2), examines a number of key issues about the demand of poor people for microfinancial services and the informal and formal ways in which these have been met. It argues that neither an emphasis on ‘supply’ (as occurred in the 1960s and 1970s) nor on ‘demand’ (as assumed by the neo-liberals of the 1980s) is sufficient to provide services to the poor. The key is balancing supply and demand by supporting the development of MFIs and products that have a capacity to understand the preferences of clients and provide services that match these preferences at affordable prices.

In Chapter 3 Jonathan Morduch, a development economist with long-term interests in poverty and vulnerability as well as microfinance, explores the schism between those who see ‘good banking’ as the best way forward for microfinance and those who focus on social impacts. He warns that there is no ‘win-win’ situation in which an MFI can get the best of both sides of this debate. He argues for proponents of microfinance to directly address the schism through further innovation and more rigorous monitoring of achievements.

Rutherford, a long time scholar-practitioner of microfinance who has inspired many analysts of this sector, examines the ‘need to save’ that he has encountered in poor and near poor people in Bangladesh and other parts of the world in Chapter 4. His argument focuses on the need for poor people to create ‘usefully large lump sums’ (to meet life cycle events, emergency situations and economic opportunities) out of small and irregular daily and weekly earnings. They can do this by ‘saving up’ (conventional saving), ‘saving down’ (borrowing a lump sum and then repaying it by making small, daily or weekly savings in their consumption behavior) or ‘saving through’ (joining clubs that involve making regular savings and getting a lump sum at some stage during the savings cycle). He concludes that poor people have insufficient opportunities to engage in ‘basic personal financial intermediation’ – effective microfinance can help remedy this situation.

In Chapter 5 Marguerite Robinson, who spent many years studying and advising on microfinance in Indonesia, looks at the ‘absurd gap’ between supply and demand in microfinance. She identifies two main approaches to microfinance – ‘poverty lending’ and ‘financial systems’. The former seeks to reduce the poverty of its clients using foreign aid supplied subsidies. The latter focuses on developing savings and lending services that meet the needs of poor and non-poor households and that are profitable – so that they can be expanded on regional and national scale without needing donor subsidies. Her argument is detailed, so we have had to shorten some sections. It makes a powerful case for MFIs to pursue a ‘financial systems’ approach.

Paul Mosley and Hulme explore an aspect of Robinson’s analysis in Chapter 6. Drawing on their empirical research in several countries (Hulme and Mosley, 1996), they argue that microenterprise credit has a more significant impact on the incomes of the non-poor than the poor. At the time they wrote this piece it confronted the dominant discourse about microcredit that was used to develop the microcredit summits – ‘microcredit always works’. They argue that their finding occurs because the poor have a greater need to divert microenterprise loans to consumption, are more likely to have to sell assets because of adverse shocks and have a more limited range of investment opportunities than better-off people. On a more positive note they identify product design features that can help improve the poverty impacts of microcredit. The findings of this paper have been influential but its methods of analysis, and conclusions, have been challenged in recent times (Morduch, 2008).

Chapter 7 (by Matin and Hulme) looks at one of the schemes that have been designed to help very poor people in Bangladesh reach an economic and social position that will permit them to take advantage of microfinance, and other economic opportunities. Matin is Head of BRAC’s Research Department and Hulme has studied BRAC since 1992. BRAC is a major provider of microcredit but in the 1990s it realized that its microfinance schemes where not reaching the poorest. Using the knowledge it had gained from food aid programs it developed a ‘Targeting the Ultra Poor’ (TUP) program that provides a cash stipend, social development and business training and an asset transfer (often cows, goats, ducks or chickens) to very poor women. Many of the women participating in TUP have subsequently joined BRAC and other microfinance schemes. For a more detailed review of TUP see Hulme and Moore, (2008).

In Chapter 8 Naila Kabeer explores the reasons why recent evaluations of the empowerment potential of credit programs for rural women in Bangladesh have arrived at very conflicting conclusions. Kabeer is at the Institute of Development Studies, University of Sussex and has spent many years researching issues on poverty, gender, and social policy. Although the evaluations use somewhat different methodologies and have been carried out at different points of time, the paper argues that the primary source of the conflict lies in the very different understandings of intra household power relations which the different studies draw on. It supports this argument through a comparative analysis with the findings of a participatory evaluation of a rather different credit program in Bangladesh in which the impact of loans was evaluated by women loanees themselves.

Monique Cohen opens up the debate on the need for a client-led focus in microfinance in Chapter 9. The solutions to the concerns on competition and dropout are defined in terms of more responsive products, the creation of new products, and the restructuring of existing ones in line with the client-led agenda. Appropriate products will not only benefit the operations of an institution they will also have a positive impact on the wellbeing of the client, reducing the risk of borrowing and the poor’s vulnerability.

Several iconic institutions have been exceptionally influential in the evolution of microfinance. While Bank Rakyat Indonesia (BRI) and Bolivia’s BancoSol are discussed by Robinson in Chapter 5, Chapter 10 reviews the evolution and present status of the world’s best known MFI – the Grameen Bank. It is an original paper specially written for this volume by Hulme as the bulk of the literature on the Grameen Bank fails to note that it has transformed its organizational goals and business model since 2001. The paper argues that the Bank has put aside its ‘poverty lending’ approach (Grameen I) and adopted a ‘financial systems’ approach (Grameen II). It is no longer in danger of financial collapse, as was the case in the late 1990s, and is one of Bangladesh’s fastest growing MFIs with more than 6 million clients. However, its claims to being a bank for the poorest are now rather tenuous.

In Chapter 11, Warren Brown explains the microinsurance products which have gained prominence recently. Microinsurance refers to financial services that use risk pooling to provide compensation to low-income individuals or groups that are adversely affected by a specified risk or event. However, he questions whether the majority of MFIs have the expertise required to support insurance products, such as pricing, and whether the target clients actually want insurance or other risk-managing financial products.

In recent years most countries in which microfinance has become significant have been examining their regulatory systems. Arun, in Chapter 12, reviews the issues of supervision and regulation for MFIs. There is an argument that MFIs are unlikely to achieve their potential unless they are in an effectively regulated environment. Many MFIs have looked to deposit mobilization as the primary source of funds for their growing loan portfolios. The incentive for MFIs to be regulated is the legal right regulation gives to accept deposits for on-lending, and thereby to expand the scale of their programs. How effective is it to license these institutions when the majority of them are dependent on the continuing availability of subsidies is the real issue. Issues of self-regulation, rating agencies, cost of supervision and the role of prudential versus non-prudential regulation are also important in MFIs. However, regulatory and supervisory issues in microfinance should lead to better organizational structures, legitimacy, independence and market growth.

Evaluating microfinance programs remains a major activity as the industry still attracts donor support and many funders and NGOs have asked (and are asking) whether microfinance should be prioritized or whether there are other types of program that are a greater priority. In Chapter 13 Hulme reviews the approaches and methods that can be used for microfinance impact assessment. It contrasts the market-based perspective (if microfinance meets client needs and covers its own costs then it is successful) with the more demanding poverty-impact perspective (the direct and indirect impacts of microfinance must be measured and compared with the costs incurred – economic and social). Further, Hulme contrasts the high ‘scientific’ approaches preferred by econometricians (now promoted by MIT’s ‘The Abdul Latif Jameel Poverty Action Lab’) with the more organizationally focused moderate cost impact assessments that are the base of most evidence about microfinance. He believes that high quality scientific evaluations will be relatively few and that there is a real danger of those that seek ‘laws’ of development economics not understanding that microfinance has to be context specific and that MFIs usually evolve and learn – they are not designed and then implemented as naïve, normative theory promises.

In the concluding chapter (Chapter 14) we speculate on the ‘Future of Microfinance’, particularly on the ways in which the sector may evolve over coming years as a set of services that raises the prospects for low-income households. It has been widely accepted that microfinance is not a magic bullet that automatically lifts poor people out of poverty through microenterprise. The trends of commercialization in microfinance benefits consumers in terms of lower prices, product and service innovations, improved product and service quality and technological advancements. The microfinance sector seems set to continue to expand and diffuse through different forms such as specialist MFIs and formal banks. However, the speed and nature of these processes is still unclear and we may need to continue the efforts to provide access to financial services to those people and regions who still have very limited access to finance.

References

Daley-Harris, S. (2007), State of the Microcredit Summit Campaign Report 2007, Washington, DC: Microcredit Summit Campaign.

Hulme, D. and Moore, K. (2008), ‘Assisting the Poorest in Bangladesh: Learning from BRAC’s “Targeting the Ultra-poor” Programme’, in A. Barrientos and D. Hulme (eds), Social Protection for the Poor and Poorest: Concepts, Policies and Practices, London: Routledge.

Hulme, D. and Mosley P. (1996), Finance Against Poverty, London: Routledge.

Lascelles, D. (2008), Microfinance Banana Skins 2008: Risk in a Booming Industry, Center for the Study of Financial Innovation (CSFI), New York. http://www.microfinancegateway.org/files/47464_file_CSFI_Microfinance_FINAL.pdf (accessed June 12, 2008).

Morduch, J. (1999), ‘The Microfinance Promise’, Journal of Economic Literature, 37(4), pp. 1569–614.

——(2008), ‘Another Look at Winners and Losers in Finance Against Poverty’, Financial Access Initiative Working Paper, New York, New York University.

Peachey, S. and Roe, A. (2004), Access to Finance: A Study for the World Savings Bank Institute, Oxford: Oxford Policy Management.

Stiglitz, J. (1998), ‘More Instruments and Broader Goals: Moving Toward the Post Washington Consensus’, Helsinki: 1998 WIDER Annual Lecture, January 7.

2
FINANCE FOR THE POOR

The way forward?

Thankom Arun, David Hulme, Imran Matin and Stuart Rutherford¹

2.1 INTRODUCTION

Since the 1980s, microfinancial services have generated considerable interest among academics, donors and development practitioners as an alternative to the documented failures of government rural credit assistance to reach low-income households (Hulme and Mosley, 1996; Johnson and Rogaly, 1997).The failures are attributed to causes such as urban-biased credit allocation, higher transaction costs, interest rate restrictions, high default rates and corrupt practices. The reasons for poor loan recovery are related to inappropriate design features, leading to incentive problems, and politicization that made borrowers view credit as political largesse (Lipton et al., 1997). These failures stimulated a set of innovative financial institutions in several corners of the world which began to prosper and attract attention, especially in Bolivia, Bangladesh and Indonesia. These microfinance institutions (MFIs) share a commitment to serving clients that have been excluded from the formal banking sector.

The development of the microfinance sector is based on the assumption that the poor possess the capacity to implement income-generating economic activities but are limited by lack of access to and inadequate provision of savings, credit and insurance facilities. This approach also breaks from the directed credit strategies by reducing the government involvement and by paying close attention to the incentives that drive efficient performance (Morduch, 1999). The developments in microfinancial services have been based on a prototype delivery model that is considered the best answer to capture financial needs of the poor in various socioeconomic and institutional systems. However, after two decades of experience, a better understanding of the financ...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• List of illustrations
• List of contributors
• Preface
• Acknowledgement to publishers
• 1 Introduction
• 2 Finance for the poor: the way forward?
• 3 The microfinance schism
• 4 The need to save
• 5 Supply and demand in microfinance: the case for a financial systems approach
• 6 Microenterprise finance: is there a conflict between growth and poverty alleviation?
• 7 Programs for the poorest: learning from the IGVGD program in Bangladesh
• 8 Conflicts over credit: re-evaluating the empowerment potential of loans to women in rural Bangladesh
• 9 Making microfinance more client led
• 10 The story of the Grameen Bank: from subsidized microcredit to market based microfinance
• 11 Microinsurance – the risks, perils and opportunities
• 12 Regulating for development: the case of microfinance
• 13 Impact assessment methodologies for microfinance: theory, experience and better practice?
• 14 The future of microfinance